Earnings Call: H1 2020

Feb 23, 2020

Thank you for standing by, and welcome to the Orbit Group Limited OneHead twenty Results Announcement Conference Call. All participants are in a listen only mode. There will be a presentation followed by a question and answer session. I would now like to hand the conference over to Mr. Eda Mullins, Chief Executive Officer and Co Founder. Good morning, everyone. So my name is Aiden Williams, and I'm CEO and Co Founder at Ordnate. Thank you for joining us on our results call today. As many of you would be aware, Ordnate is a technology company that provides networking hardware and software solutions to manufacturers of professional audio and video equipment. Our technology, called Dante, distributes audio and video signals across standard computer networks, replacing the expensive and inflexible point of one cabling that has historically been used to connect AV equipment. Thousands of commercial audiovideo systems around the world, in shopping centers, railway stations, lecture theaters, hotels, houses of worship, theater and radio stations, convention centers and many more other places, using content networking to deliver high quality AV experiences using IT infrastructure. If you turn to Slide three of the presentation that we published in ASX Plus, you will find the financial and operational summary for the first half of FY 'twenty. Overall, ordinates continued to grow with revenue in Australian dollars increasing by 14% to $16,100,000 This was a solid result but below historical U. S. Dollar growth rates, largely due to the impact of U. S. Tariffs and a general economic slowdown in China. Compared to the prior period, gross margin dollars increased 20% to $12,500,000 in Australian dollars due to revenue growth and a favorable shift in product mix to the high margin corporate costs. Gross margin percentage improved to 77.1% from 73.3% due to an increasing proportion of high margin corporate products. We expect that software sales will continue to become a larger proportion of our product mix over time. Operating cash flow increased to 2,900,000 from $600,000 due to revenue growth, and that's a pleasing result as we have also begun investing in additional R and D headcount during the half. Operationally, the business continued to track well with key metrics improving during the half. The total number of products on the market containing Dante technology grew by over 35% to 2,321 as at the December 31. This figure represents the size of the Danpe enabled product catalog available for designers of AV equipment. In addition, the recent European trade show Integrated Systems Europe that took place mid February saw a record number of 147 new Dante products to launch, taking the total current number of Danto products on the market to over 2,500. This half also saw an increase in the number of software based content units shipped, up 11.7% to 98,000. We expect this to further improve on the back of strong manufacturing interest in our new software based dumping products. The number of manufacturers adopting Dante also continues to grow with the number of manufacturers shipping at least one Dante product increasing 28% to two ninety two as at the December 31. So this has experienced headwinds during the half, primarily due to a combination of U. S. Import tariffs and an economic slowdown in China. Our China Sales Team is reporting a general slowdown in the wider professional AV industry in China, and this has been reflected in a 33% decline in sales of dumping components in Asia, largely seen as reductions in orders for our lower priced ultimate ships. Please note that these effects took place before the current outbreak of the novel coronavirus. Revenue expected in the first half from new software products, campaign better platform and data application library has also been delayed due to manufacturers delaying the launch of their products using Dante software products. We expect to see revenue from these software products in the second half since those products are near complete and being publicly demonstrated by those manufacturers. The new Dante AV product design phase was also delayed by quarter due to manufacturer requests for changes. This delayed design win revenue associated with the Dante AV product design phase. However, we expect the changes that we have made to facilitate and accelerate future design wins. Additionally, The U. S. Tariff situation remains dynamic. Historically, Ordin8 has used contract manufacturing based in Mainland China, and therefore, the adapter and Brooklyn products have been subject to U. S. Input tariffs. During this half, U. S. Tariffs were threatened, was reduced and reduced, and this has likely affected growth in the sales of products based on Brooklyn and the vessels. Going forward, we expect to eliminate the effect of U. S. Tariffs by manufacturing goods down for The USA and Malaysia. I'll have more to say on these topics later in the presentation when we get to the outlook statement. Slide four summarizes several key metrics for the business, indicating continued interest and adoption of BoundSafe by manufacturers and end users. As previously mentioned, the total number of Dante products on the market now exceeds 2,500 with a record number of 147 new products announced at the large mid February trade show in Europe. Major equipment manufacturers for existing customers of Dante continue to deepen their usage of Dante in their product portfolios with new Dante products from major brands like Yamaha, Sony, Shore, Sennheiser, Xtron and Primer being announced. Metrics associated with marketing activity continue track strongly with an increased pace of 80,000 able industry professionals having completed at least one campaign certification course. Website traffic, new accounts and marketing contacts continue to grow and sales and download of end user software products like Dante Virtual Account Card and Dante Controller continue to grow strongly. On the competitive front, the chart on Slide five shows the network effects associated with the interoperable ecosystem of Dante products continuing to grow. This is the last update that will count COVID net products, with PowerEdge Consulting not considering it to be a relevant technology in the industry going forward. The takeaway from this slide is that Dante continues to extend its lead with 7x more products than the next nearest competitor or even more if COVID is disregarded. To support long term growth in the business, Coordinate has several medium term strategies and goals, as shown on Slide six. In this part, notable activities, shown on the right, against our medium term goals and strategies, shown on the left, include beginning the growth of our engineering and R and D functions. We've added 13 new positions in engineering, product management and technology development bringing Malaysian contract manufacturing online to avoid U. S. Tariffs rolling out new product development processes with scaled agile framework to manage engineering and product development and new HR information system and travel management platforms new audio and video feature developments, notably tweaked to the non pay AV product design suite in response to earlier customer feedback. And importantly, COVID's semi design wins from new products in the form of non pay AV and certainly software based non pay products. In the near term, the revenue and operational priorities for the business are summarized on Slide seven. On the operational side, we will continue to deliver our existing mature hardware products, taking advantage of Malaysian manufacturing to award U. Tariffs. On the execution side, completing delivery of new products will unlock new design wins and complete orders. On the sales side, growing the pipeline of customers for new Dumpster video and software products is a priority. We aim to close a total of at least 20 design wins for new Dumpster software and video products in this financial year. On the marketing side, we have added training resources in Europe, China and Latin America, which will drive further interest in Dante amongst AV professionals around the world. And with that, I'll turn over to Rob Cross, Alder Lake's CFO, to present the financial results and business metrics in more detail. Thanks, Toby. Good morning, everyone. Over the next few minutes, I will be explaining the first half twenty twenty financial results that were lodged with the ASX earlier today, and I'll summarize in the company's investor presentation. The particular information I'm going to talk to is set out in the investor deck on Slides nine to 13, and all amounts quoted will be in Aussie dollars. Hayden previously talked to some high level factors impacting revenue during the first half. From a product perspective, the increase in revenue from chips, cards and modules was attributable to continued growth in our footprint in worldwide products, while growth in software revenue is attributable to royalty, Fronte Domain Manager and sales of FronteGeo, Sandstar and Bunday Vita. Overall operating expenses have increased from $8,700,000 in the prior period to $10,600,000 compared to 2020. As we outlined at the time of the capital raise last year and at the time of our 2019 results, we see enormous opportunities in the near term and aim to double the sales of the engineering team over the next two years and ensure we have the business infrastructure in place to support our growth agenda. Overall headcount has grown to one hundred and five and eighty one at the same time last year. Since 41% of 2019, we've added a further nine people, so the total headcount is now 114. In terms of the engineering turnover, gone from 40 people at pregen twenty nineteen to 54 now and consider ourselves well placed to meet this goal. Employee expenses have been impacted by some one off impacts from the departure of our former CEO, Lee Ellison, who finished the ordinance at the end of last year. At the AGM, the shareholders approved the acceleration of vesting conditions for these performance rates, which resulted in an additional noncash charge of approximately $800,000 during the period. There were about $200,000 related U. S. Employer taxes paid on equity grants to Lee during the period. We have also reclassified directly to employee expenses given that the main trade trade take place in the second half of the financial year. Accordingly, our marketing expenses are expected to increase in the second half of the year again in 2020. We acquired the new lease accounting standard with the Fed since 07/04/2019 when compared to the net required period of settlement. The impact can be depending on the balance sheet of the last year's asset with the corresponding late liability. In terms of P and L, this means that premises costs are now expensed through depreciation and amortization, which amounted to approximately $300,000 in the current period. If the prior period was adjusted to be on a like for like basis, then the second half of this period would have been approximately $1,900,000 At an income level, the increased depreciation and amortization in the current period plays through and drives the movement between first half 'nineteen and first half 'twenty. Operating cash flow has increased from $600,000 in first half 'nineteen to $6,900,000 in first half 'twenty as the benefit of additional gross margin dollars in between. In terms of cash flow, we expect the one off balance to roll out in investing activity. Firstly, there are about $500,000 of payments that are put out within the Acidney asset As a result, employees selling shares from exercise of options Further details are contained in the financial statements in Note 10. The balance sheet remains strong, and the company continues to open up debt. I will now hand back to Aiden to discuss the new products and outlook. Thanks, Rob. In the next few slides, I want to provide a brief update on the new software and video products we launched during the last year. A major milestone last year was the addition of video support to the Damping networking solution. Slide 15 shows a couple of articles reflecting industry reaction for the launch of Dante AV. We have, at this point, 40 line links for us for Dante AV. And even though there are no shipping Dante video products from manufacturers, the bar charts shown on this slide come from survey carried out by Commercial Integrator magazine, indicating that AV integrators have a high degree of confidence that Dante AV will meet their needs. We believe that this confidence comes from the positive experience Dante's from the positive experience integrators have with Dante's audio products, and they all did well for the adoption of Dante AV products when they become available. The article linked at the top right points towards the potential for Dante AV to create an interoperable ecosystem for network video products like the one already available for Dante audio products. If we succeed, the article suggests that this will be a game changer for the industry. Dante AV has generated strong interest with a pipeline of design win opportunities. To date, we have closed four design wins using the products shown on the left hand side of Slide 16. These include Yamaha and Solen, a manufacturer of handset viewing video cameras. Our prototype Jante cable camera was demonstrated in conjunction with Solen at the recent IP trade show in Amsterdam. The delivery of the Dante AV product design suite has been delayed by quarter due to customer requested modifications. With these modifications in place, we expect that the Gantt AFB product design suite will meet the needs of a wider variety of manufacturers who wish to get to market quickly with the network of our products based on its reference design. On the software side, slide 17 highlights progress with new Dante software products. QXC, the initial customer for the Dante embedded platform software product, has delayed the rollout of Vedante with launch now expected in March. We anticipate pent up demand from this half to be delivered during the next half as that product comes online. Zoom has incorporated the Dante application library into their Zoom ring software application, and it has been quietly rolled out in a beta program. The screen capture on the bottom right shows an iPad sitting in the Zoom ring software to connect to a one time microphone. Finally, in a significant announcement at ISB, Sure launched a Pure software digital signal processor for conference room applications. In the past, Shaw has delivered signal processing functionality in a hardware form as shown by the black box in the center of the slide. With Ganta application library, that same functionality can now be delivered as a Windows software application without the need to install any additional hardware. This product launch from a major brand has done a lot to validate the thesis that the AV industry is undergoing a hardware to software transition enabled by downtown networking technology. In the near term, U. S. Tariffs and associated changes in the Chinese economy due to supply chain restructuring are expected to continue, along with the uncertain impact associated with the recent outbreak at the Novel Coronavirus. I'm on Slide 19 now looking at the outlook. Despite the expense headwinds, the company expects to deliver further revenue growth in the second half of FY 'twenty, although it is likely that the full year results will be below the historical revenue growth for our business. As described earlier in the presentation, delivering operationally on the manufacturing of existing products and achieving design wins on new software and downstream video products will continue to drive repeat revenues for the business. Beyond FY 'twenty, business metrics and leading indicators such as the continued interest in Dante enabled products, continued strong interest in Dante training amongst AV professionals and the healthy sales pipeline for new products like Dante AV and software in Dante implementation provide confidence that the company is well positioned to deliver attractive long term growth to shareholders. In order to capitalize on the digital transformation of the labor industry, Coordinate will continue to execute on its medium term priorities to grow our product development capacity, to put in place the necessary business infrastructure and systems of scale to deliver the next generation of data audio and video software products, all with the aim of substantially addressing the addressable market for the business, which we estimate to exceed 1,000,000,000. And with that, I think we can move to a time of question and answer. Thank you. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. Please note there is a limit of two questions per participant. Your first question comes from Jenny Eunice from Shaw and Partners. My first question is around the second half outlook. Given your first half revenue growth was 14% and you've guided the second half below historical averages, let's say, to 50%. So that's the current 15% to 25% growth, which is a pretty large range. And I understand the uncertainty. I think could you maybe give us a little bit more detail in terms of has there been a pronounced downtrend, say, from January to February from coronavirus on top of the tariffs last year and what that means in the demand and travel volumes? Yes. So I think where we are at this point in time is reduction in demand is really related to the domestic Chinese economy, as we've indicated in the presentation. So we have, at this stage, not seen any effect from the coronavirus, but I think it's certainly out there as a potential impact. So January, I think, has been strong for us. In the conversations we've had with our top 20 customers, we've seen we noted sort of general indication globally that we're seeing an additional downturn, at least at the point in which we had those conversations, which was around the end of last year. But there is just some uncertainty associated with the impact of the coronavirus and its effect on things like supply chain, which is at this point an unknown. So I think we have no reason to suspect that outside the domestic China market, there are any sort of major headwinds at this point, but there is just some substantial uncertainty associated with the impact of the coronavirus and like many companies, that's beyond our control. Okay. And then the second question is around your gross margins. 77% is the strongest, I think, since 2015 for you guys, so we're balancing front. And I understand it's the mix shift from CCM into software. So my understanding is over the last three to four years, this is the first time you've called out Veer and BVM has been particularly strong. What's really driving that? And can you hold those gross margins at that area of 77 percent in software is further increasing going forward? Yeah. Hi, Danny. It's it's Rob. I'll take this one. So what we call sort of retail sales or consumer software and payment, Dante Digital, Dante Via, we've seen pretty steady over quite a period of time. So and instances that growth in software, it was really attributable to three products in relatively similar dollar amounts. So we've called it out for that reason. That is about 20% revenue growth and we have the products which has been around for three or four years. So we think that has been a little bit sort of a lever for the continued interest in Zombo technology and the proliferation of technology. In terms of the second part of your question around the gross margin percentage going forward, we do see in the medium term, every continued shift to software and therefore, an increased gross margin over time. In the near term, it will move around a little bit depending upon proportion to the market's revenue. So we think that that picks up in the second half, there might be a quite a quite a in the near term. Your next question comes from Dan Coughlin from Credit Suisse. Quinn here, actually. So maybe first question on the cost investment that's occurring in the business and how to think about that investment going forward. Given some of the, I guess, macro headwinds on the business, and slowing top line from that kind of historic range, is it certainly thinking to maybe moderate some of the cost investment expectations over the next year or two? I mean, you've called out R and D doubling, kind of setting sales and marketing expenses while also going up quite a bit. I mean, is there a we can potentially slow that down to kind of protect the profit base? Or is there a scenario here where profit could be kind of flat to maybe down for the next year or two? Yes. I think the generally speaking, Ordnite is we see ourselves as a technology business that's really establishing a platform in the AV industry, which is our downplay technology inside lots of amplifiers, microphones, people that kind of stuff throughout the industry. And as we establish that platform, that gives us the capability to drive the transformation of the industry towards software based delivery of AV industry of AV solutions as opposed to hardware based solutions that they have at the moment. So the key upside to Ordinance is not so much in the chips and modules business that we have now, although it's a good business. We see the chips and modules business we have now as a land grab to establish the DANCO network solution as the foundation of a thoughtful platform for the industry. So for us, the key is to be able to continue to invest in the next phases of our strategy so that we can take advantage of the potential upside in that translation in the medium term. Rob, did you want to add anything? No. I think we have sort of previously said sort of account numbers of around about 130 or 130 plus is the target for this year. Obviously, we reiterate what I can say we're running this business to the medium term, we set out move towards medium term priorities. And we in terms of continue to execute for the there's a little bit of interim uncertainty. That's helpful. And then just secondly, so you did call out that Asia, mostly China is down by onethree in revenue. Can you just remind us how much of group revenue is from Asia? That if memory serves in August annual report, that's about onethree of the group? Yes. So the specific sort of issue in China, we're probably seeing an effect of around about $500,000 with respect to China. That's a combination of loss of expected growth and downturn from the previous comparable period. So the combination of those two is probably worth about AUD $05,000,000 to automate. As a 20% in the call out in the ASF release was sort of ex Japan, which accounts for the with that sort of the low for that. We're not good at now. Your next question comes from Tim Fromm from UBS. Just some questions from me, if possible, please. Just firstly, in terms of the COVID impact or coronavirus impact, you mentioned potential supply issues. Can you give a sense, I mean, how much inventory do you have on board and and what kind of duration before it becomes an issue of not being able to get chips out? And and second to that, kind of how your OEMs impacted by those same sort of issues? Yeah. So our OEMs have similar sorts of issues to us to the extent they manufacture hardware in China. Typically, we would target, say, four turns per year. So generally speaking, we would look to have three months' worth of inventory in the form of components and utilities manufacture in that kind of time frame. The coronavirus impact at the moment has coincided with Chinese New Year. So as a matter of sort of normal planning for the business, we expect manufacturing in China to basically go offline during Chinese New Year. And what has happened is that has been extended out as a result of the actions that have been taken by the government in China. So we've been monitoring this very closely. Our understanding for our own products is that we expect manufacturing to be coming back online. Workers are coming back to the factories, the relevant factories. Parts, at this point, we believe parts will be available. And so we're expecting to see manufacturing come back online over the next weeks, although there is still some uncertainty associated with that. So at this stage, we have no reason to believe that we're going to have trouble. However, there's still some uncertainty. It's also the case that shipments freight is still being transported out of Hong Kong. So we have the ability to deliver orders, and we're not very competitive with delivering all of the orders that we impact for our customers. Got it. And just second question around the penetration of products from the existing OEMs. Can you talk a little bit in terms of that was a pretty big uplift in terms of new products that came on board. Are you seeing new products that are working their way down through the value range? So you're seeing more products come on at a cheaper rate. How are you looking at the quality of the new products coming on and how that assists your business in terms of growing across the whole of the spectrum? Yeah. I I think there's there there is a large number of products. So I haven't personally gone and evaluated every 147 of each of those those particular products. At the trade show, one of the things that was very notable was that there were several manufacturers that when we turned up the business asked them if they had any new Dante products, they kind of looked at us in a sort of mildly surprised fashion and turned them down and put us to an entire wall of products. So the interesting thing, I think, is that there have been several manufacturers that are launching whole portfolios of products. And that, for us, I think, a new thing at IP. In terms of the quality of driving penetration lower, I think we are seeing increased growth in Ultimode, but in particular in the system product. So that is starting to grow strongly now. So there are more broadband. I mean, broadband, not broadband. So this is the eight to 16 channel chip product. So these are sort of medium scale government products. Driving that penetration into lower cost, more broadly available products, that is the purpose of Dante's embedded platform for which we've seen very strong interest and that we could find a of interest in manufacturing for that. Your next question comes from Kenny Wang from Morgan Stanley. Maybe I'll just start on the first one with just diving a little bit deeper into the Asian revenues from China being down to 43%. Can you give us a sense of what really drove that between, I guess, the tariffs and economic slowdown? And if you were able to give us a sense of, I guess, which one has the grading path? Tariffs and the economic slowdown, I find them quite difficult to separate because I think we were affected by the tariff in the sense that we do anticipate that there is some reduction in demand because of the tariff on our products that we're manufacturing in China. But I think it's all tangled up because what has happened with the tariffs is there has been supply chain restructuring in China. So we've talked about the fact that we've moved we've established contract manufacturing in Malaysia. So that has moved probably about onethree of our manufacturing from Mainland China to another country. So the effect of that generally in the Chinese economy is probably that there's a general downturn in the Chinese economy. So tariffs and the downturn in China, I think, pretty strictly connected or at least I'm not in a position to be able to kind of pitch those to pursue a difference. Your next question comes from Owen Humphries from Canaccord Genuity. Just just touching on the the major trade shows. So what percentage of products from your OEM partners are launched at trade shows? Is it the very high percentage? Yeah. Typically, it would be. There are two major trade shows, one in middle of the year in June and one in February, so the European one and an American one. They're in the commercial and full day these days, so they're the largest trade show for us. And likewise, there's some European and an American broadcast related trade show. The majority of products generally would be launched current starting with the trade show. And would be weighted to the second half of financial year, whether they're one of the two major trade shows that Aidan just mentioned or some of it like there are those couple of extra shows in this part of the year. So generally speaking, it's Q3 as a guide, we would expect a stronger investment product in the past year. Your next question comes from Justin Cetano from Blue Ocean Equities. Two questions for me. The first one is just around the Malaysian contract manufacturing side. Can you give us an idea of the impact on the supply costs, whether it's different to what you get in China? Yes. So the Malaysian contract manufacturing is a factory that's been purchased by VTech, which is the same contract manufacturer who runs the factory in Mainland China that we use. In transferring some of our manufacturing to Malaysia, the increase in costs has been negligible. So there's essentially no difference to us with respect to cost, profit or indeed, at this point, the operational side of it is that we can work through VTEG and both locations feel transparently. Your next question comes from Cord Walker from Ethical Equities. I'm sorry if you can answer this question, but I was wondering if you're able to sort of split up your top different staff numbers into, I guess, those working on hardware based solutions. Are those already working on it at the next stage of the company development, which is the software based solution? Are able to give a feel? Yeah. Yeah. I I think I can. So the of the 93 staff members that we have at this point in time, Probably somewhere between sort of five to seven of those are in the hardware kind of area. The so the majority of our engineers these days are software people, and they're they're working on products that are primarily software products where we deliver software to equipment manufacturers by putting the software inside a printed circuit board module, like effectively a network card for a piece of AV equipment or a chip where the software is preprogrammed into chip so that the manufacturers can then put that on the board. So we do anticipate most of the additional headcount that's coming online will be software oriented staff, but that probably just reflects the general mix of our business anyway, where the technology itself is primarily in cost control. By the way, the 53 is the total headcount and our engineering team is 93. Thank you. That does conclude our conference for today. Thank you for participating. You may